Ruckus Rising: After Bad Q1, Buy Ahead of Telco Wins, Says Piper

By Tiernan Ray

Shares of wireless equipment vendor Ruckus Wireless (RKUS) are up 87 cents, or almost 7%, at $13.48, after Piper Jaffray’s Gus Richard late yesterday started coverage of the stock with an Overweight rating and a $17 price target, writing that the slump in the stock following the company’s disappointing Q1 report on May 6th is an “attractive entry point” before the company announces “a number of service provider deals” in coming quarters.

Richard’s basic industry outlook is that more and more data usage on mobile devices will be offloaded from the cellular network to WiFi hotspots:

In CY12 roughly 33% of mobile traffic was offloaded over Wi-Fi and by CY17 it is expected that 2/3 of mobile data will be over Wi-Fi and small cell networks. We continue to believe small cell is not ready for prime time and it will take several more years for it to be ready for wide scale deployments within dense urban areas. We think that this is driving increased interest and demand for service provider Wi-Fi. In addition, cable and wireline service providers are taking advantage of Wi-Fi mesh networking capability to mitigate the high cost of backhaul and rapidly build out an extensive Wi-Fi footprint. For cable providers, an added benefit is reduced churn as customers view public Wi-Fi access as an added level of service. Cablevision has been a leader in the US, building out over 80,000 Wi-Fi hotspots nationwide.

Ruckus provides carrier-grade equipment to help telcos set up those hotspots in urban areas. The company also competes with vendors such as Cisco Systems (CSCO) in the enterprise WiFi networking market.

Use of those hotspots will be helped by a new technology standard called “Hotspot 2.0,” he believes:

New Wi-Fi standards will simplify the use of Wi-Fi for consumers and service providers. The Hotspot 2.0 standard will make it possible for consumers to seamlessly connect to Wi-Fi networks that they subscribe to without the need to select the appropriate network or log in. Moreover, an increasing number of roaming agreements will increase the ubiquity of Wi-Fi networks available. The Samsung [Electronics (005930KS)] Galaxy S4 already includes Hotspot 2.0 and we expect Apple’s (AAPL) next iPhone will also add the standard. We think this will create a virtuous cycle of demand for Hotspot 2.0-enabled devices and access points driving demand for Ruckus’ products.

Despite the Q1 shortfall, he thinks the product has interest from carriers, and some select regions such as China will improve going forward:

The company’s SmartCell Gateway product is gaining customer traction. Announced in Q1 2012, we believe this is a high margin product for the company. The product is currently in production at several operators, including a cable operator in the US, a tier-1 cable operator in Latin America, a managed service provider in Africa and two mobile operators in Asia. The SmartCell Gateway (SCG) is a scalable WLAN controller that supports 3GPP. It is designed to allow operators to manage large-scale Wi-Fi RANs and integrate them into the mobile networks. The company missed expectations in its 2nd quarter as a public company, significantly lowering guidance in April due to pushouts by in China and the Americas. Due to changes in leadership in China, demand has been delayed from Chinese customers as they focus on LTE rollouts. We would expect China (8-9% of sales) to come back at some point – though it may take several quarters. However, revenue from Chinese carriers has been effectively eliminated from consensus and our estimates. We expect to see additional tier 1 carrier wins in CY13 and deployments in CY14. The company already has a managed network deal with Sprint and has an announced deal with Time Warner Cable. We expect other service provider announcements over the next several quarters with significant deployments in CY14 to be catalysts for the shares.

Regarding the disappointing quarter, Richard thinks the company has sufficiently “reset” expectations to avoid another major disappointment:

The company’s days of inventory spiked 12 days to 94 days in Q1 and its DSO increased 7 days to 67. Additionally, the company recognized deferred revenue in the quarter with no associated costs popping up earnings. We believe this is indicative of a company stretching to make a quarter. The fundamental question for investors is: did the company lower estimates enough given that it appears the company stretched to make Q1 and missed? While there is always risk to estimates we believe the cuts exiting the Q1 report were sufficient and we would not expect another cut of this magnitude.

Richard’s own projections are for $253 million in revenue this year, and 13 cents EPS. For 2014 he is modeling $320 million and 25 cents EPS. Those numbers are below the Street’s $295 million and 16 cents this year and next year’s consensus of $324 million and 27 cents.

About Tech Trader Daily

Tech Trader Daily is a blog on technology investing written by Barron’s veteran Tiernan Ray. The blog provides news, analysis and original reporting on events important to investors in software, hardware, the Internet, telecommunications and related fields. Comments and tips can be sent to: techtraderdaily@barrons.com.